Cap and Trade Could Be a Boon to New York

By

Kirsten E. Gillibrand

Updated Oct. 22, 2009 12:01 a.m. ET

Over the past year, the economic crisis has devastated the financial services industry that fueled New York's boom years. The ripple effect from Wall Street is still being felt, as unemployment has risen to 10.3% in New York City.

In this turmoil, it may seem hard to imagine a financial market poised to deliver significant growth. However, a rising number of investors and financiers see one in the trading and reduction of carbon. According to financial experts, carbon permits could quickly become the world's largest commodities market, growing to as much as $3 trillion by 2020 from just over $100 billion today. With thousands of firms and energy producers buying and selling permits to emit carbon, transaction fees for exchanges and clearing alone could top nearly half a billion dollars.

If Congress establishes proper oversight of a carbon market, New York's financial talent, expertise and institutions are uniquely suited to provide the tools and innovation for a new commodities market of this size. Firms wishing to invest over the long term will need to turn to our financial sector to create the emerging products and provide the capital that would allow them to make green energy investments.

An infrastructure is already beginning to form, as entities like the New York Stock Exchange, J.P. Morgan Chase, Goldman Sachs, and the new Green Exchange are developing carbon trading platforms or expanding their environmental trading desks. There are nearly 100 funds already focused on green investments.

As a member of the Senate Environment, Agriculture, and Foreign Relations Committees—all of which will have a lead role in the development of climate change legislation—I am focused on several core principles to ensure effective oversight of this new market and help New York seize this opportunity.

First, to succeed we cannot repeat the mistakes of the past. The patchwork of regulations that allowed exemptions for certain classes of derivatives and no oversight of others threatened the stability of the entire financial system.

Carbon is a commodity derivative, and the new carbon market must conform to the broader commodity derivatives oversight that President Barack Obama and Treasury Secretary Timothy Geithner have outlined. Congress should integrate carbon trading into comprehensive financial reform.

Uniform regulation will allow the Commodity Futures Trading Commission to apply and enforce the capital reserves, position limits, and transparency in a way that ensures a safe and well functioning marketplace. New York will be positioned to gain market share in this growing marketplace due to its superior and substantial financial talent and expertise.

Second, the wide range of possible carbon reductions—from agricultural offsets, to efficiency technology, to wind power—will require innovative specialized contracts that can meet firms' needs. For example, in order to finance a new clean power facility, a company will need to lock in a fixed cost of carbon over a long period of time. Standardized derivatives would not provide a company the flexibility to hedge these costs over the long term.

We must allow the market to provide the ability to customize products. These customized contracts are essential for firms to adapt to the new regulations, hedge risk, and raise capital. New York's financial industry is already the global leader for existing customized commodity products and would be exceptionally well positioned to provide the legal and financial expertise necessary for these new products.

Some have suggested that we mandate exchange trading of carbon-related derivatives, effectively requiring standardization of all derivatives. In order to trade on an exchange, a derivative contract must be highly standardized. As a result, such a requirement would effectively ban customized derivatives.

Closing off these markets to customized contracts would block carbon emitters from the products they need to hedge costs and fund long-term carbon reduction projects. The carbon market in the European Union uses customized contracts 75% of the time, demonstrating the need for flexibility in such a system.

Lastly, it is essential to the long-term success of climate-change legislation and the ultimate benefit for New York that the market for carbon-emissions permits is internationally integrated. We should encourage the use of international offsets, such as reforestation projects in South America, which will drive investments in the most efficient reductions and allow firms in the U.S. to capitalize on their innovative practices across the globe.

New York and the U.S. have a lot to gain from our efforts to combat climate change, and a lot to lose if we fail.

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